Plugging the carbon leak

The European Commission wants to slash the number of free emissions allowances given to industry, part of its project to revamp the bloc’s ailing Emissions Trading System (ETS) announced Wednesday.

The Commission plans to limit the free allowances to 50 sectors, down from 177 today. The goal is to continue encouraging industries which would otherwise be in danger of moving to less costly jurisdictions, while cutting out those which don’t need support. That means bad news for wine producers and tomato growers, who will be struck from the list, while heavy industry like aluminum and cement remain.

“We go for sectors at the highest risk,” said the EU’s Climate Action and Energy Commissioner Miguel Arias Cañete. “The message is that not everybody will continue to get it.”

The prospect of deep reforms prompted a furious lobbying battle with businesses arguing the scheme could wipe out European industry and advocates insisting the fears are overblown.

The worry is over “carbon leakage,” referring to industries reacting to tough and costly emissions limits by shifting investment or even whole factories to cheaper and less restrictive regions. If that happens, the end result could actually be more pollution, undercutting the whole point of the EU’s emissions policy.

The ETS is the world’s largest emissions trading scheme, covering factories and power plants across the EU who have to buy permits in order to pollute. The idea was to use market forces to reach the EU’s target of reducing greenhouse gases by 40 percent compared to 1990 levels by 2030.

But the economic crisis produced a glut of permits. Prices are around €6-8 per ton of CO2 equivalent, well below the original aim of €30 per ton. That means the ETS isn’t using prices to force utilities and industries to cut back on CO2 emissions.

A reform approved last month will set up a Market Stability Reserve by 2019 to soak up some surplus allowances and drive up prices.

Under the Commission’s proposals, 43 percent of all allowances will be given out for free and 57 percent auctioned off.

From 2021, changes would include reducing the cap on total emissions in the market by 2.2 percent per year, (versus 1.74 percent today), which would amount to emissions reduction in the ETS sectors of some 556 million tonnes over the decade.

Proposals also foresee an innovation fund worth some 400 million allowances to invest in renewables, carbon capture storage and low-carbon innovation in energy-intensive industry. A modernization fund dedicated to support Bulgaria, Croatia, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania and Slovakia upgrade their energy systems and shift to a low carbon model will also be set up.

Climate policy vs. competitiveness?

Energy-intensive industries have argued carbon leakage is already cutting into their European growth, despite the low price of allowances. Their core argument is that a more ambitious European climate policy will undercut competitiveness and push them to invest in friendlier places.

“Climate change is a reality, and so you’ve got to tackle it,” said MEP Matthias Groote, the climate policy spokesman for the Socialists & Democrats in the European Parliament. Still, “that doesn’t mean you have to sacrifice our European industry on the global altar.”

Marcin Korolec, Poland’s deputy environment minister, argues the burden will fall particularly hard on countries with high levels of traditional industry, like Poland. Warsaw pushed to postpone ETS reforms, but was defeated.

“The whole plan is flawed,” he said. “How are you going to make industries like cement carbon neutral?”

Groote said that the current list is overly broad, raising questions over whether all sectors on it need to be there. But “we need resource industries such as aluminum and steel,” said Groote. “In this respect, we need to be careful that we don’t throw the baby out with the bathwater and that they have the protection measures they need,” as long as competition is unaffected.

No one’s happy

The Commission’s proposal has done little to satisfy either side. Industries say the Commission is ignoring their needs, while NGOs say it is pandering to business.

“There would’ve been carbon leakage if the carbon price was where the Commission expected it to be, at €30 per ton of CO2 equivalent,” said Mark Cryans, head of communications for Fertilizers Europe. “We know if the carbon price goes to €10 or possibly €15, there will be carbon and investment leakage.”

Anja Kollmuss, EU climate policy coordinator at Climate Action Network Europe, counters that there is little sign of any carbon leakage so far, and sees the draft proposal as overly industry-friendly.

“All the research indicates there is no evidence whatsoever there has been carbon leakage,” she said. “Industry has for the last 10 years been screaming that is is going to kill their industry, and it’s true in some cases industry has declined in Europe, but the reason is not ETS — this is a ridiculous claim.”

The Commission says decisions by some industries to shift away from Europe have not been caused by carbon pricing. However, it does not discount the risk.

“At this point, we can say there is no carbon leakage,” said an EU official familiar with the reform, pointing to the low market price and large number of free allowances industries currently receive.

But the Commission is aware of the danger of driving European costs so high that some industries flee to countries with looser environmental standards.

“I’m not going to say that there isn’t the fear of carbon leakage, those are their fears,” he said. “Hopefully, through the legislative process we can allay their fears.”

On the industry side, fear of carbon leakage brought 16 trade associations together under one banner, called the Alliance of Energy Intensive Industries. It sent a letter to Commission President Jean-Claude Juncker last month, asking among other things not to penalize industries that were doing a good job of cutting emissions by cutting their carbon leakage protection.

The Commissioner for Internal Market and Industry, Elżbieta Bieńkowska, from Poland’s industry-heavy Silesia region, recently established a high-level working group for energy-intensive sectors to discuss industrial policy issues, including the ETS.

With national and industrial interests at stake, the ETS reform is likely to face a long and heated battle in the European Parliament.

“I will be surprised if we can finish it before the end of next year,” said Dutch MEP Bas Eickhout, the Green’s climate spokesman.